London, November 23, 2004 Seb Walhain Environmental futures versus carbon cash products Combined...
16
London, November 23, 2004 Seb Walhain Environmental futures versus carbon cash products Combined physical and financial carbon hedging
-
Upload
jack-potter -
Category
Documents
-
view
216 -
download
0
Transcript of London, November 23, 2004 Seb Walhain Environmental futures versus carbon cash products Combined...
London, November 23, 2004Seb Walhain
Environmental futures versus carbon cash
products
Combined physical and financial carbon hedging
2
Presentation outline
The carbon asset-liability ratio curve under the EU ETS The marginal abatement cost curveChoosing make-or-buy based on the cash products marketEnvironmental futures as alternative to spot and forwards Developing the right trading and/or compliance strategy
Conclusions, merits of trading versus cost of compliance
3
EU Emission Trading Scheme
New assets, new liabilities, new values
Two main ways to reduce emissions under the EU ETS
- Allowance trading sets a cap on emissions and companies can either buy or sell allowances depending on their emissions and the cost of abatement.
- Credit origination involves generating credits by investing in individual projects in developing countries that reduce emissions
The EU ETS covers ±46% of EU CO2 emissions
Penalty of €40 per tCO2e (2005-2008) and €100 (2008 to 2012)
Forward market semi-established into 2008, increasing liquidity and participation, decreasing volatility and contractual diversity
4
CorusDrax
E.ON
EdF
EDP
Eesti Energia
ESB
PowergenRWE
ScottishPower
Shell
Thyssen Krupp
Vattenfall
Voestalpine
Innogy
Value of allowancesExpected value of total allocation expected ~ 14+ Billion EuroValue of traded market ~ 2 Billion Euros per year (at 5 Euro per tonne and 10% of allocated allowances traded)
Allocated value to 15 major companies ~ 2750 M Euro
5
Ref. Point Carbon
6
Accounting example of Asset to Liability 2005Emissions
per year = 1MtCO2
Total allocation per year = 0.9MtCO2
Value asset on allocation ~ Euro 7 million
Value final short position ~ Euro -3 Million
Estimate CO2 asset (IAS 38 Intangible Asset measured at fair value with all changes recognised in profit and loss. RECOMMENDED by IFRIC)Monitor CO2 liability (IAS 20)
-1
-0.5
0
0.5
1
1.5
2
Q105 Q205 Q305 Q405 Q106 Q206 Q306 Q406 Q107 Q207 Q307 Q407 End1st
period
Meg
a to
n C
O2
-6
-4
-2
0
2
4
6
8
Mil
lio
n e
uro
Cumulative emissions Allowances remaining Cumulative allowance value
7
Influencing factors for carbon abatement costs:
- Efficiency of power plants;- Age of power plants;- Type of fuel.
Costs to reduce CO2:- NL: ± € 20 per tonne;- Poland: ± € 5-7 per tonne:
- Old (25 years and older) and inefficient (± 27%) power plants;
- Main types of fuel are lignite and hard coal.
High emissions per MWh: large reduction potential.
2)
1)
1) Source: Coal Convenant, August 20002) Costs to reduce 1 tonne of CO2 depends on type of technology.
Reducing CO2 in Poland - up to 4 times more effective
8
Marginal Abatement Costs
The Marginal Abatement Cost Curve
Company with 5m tons CO2 emissions
0 0,5 1 1,5 2,5 3 3,52
10
20
30
40
EUR/t
Million tons CO2
4 4,5 5
M1
M2
M3
Cost of Reduction Measures (M1-3)
Ref.: Evolution Markets
9
Make-or-buy versus the cash products market
0 0,5 1 1,5 2,5 3 3,52
10
20
30
40
EUR/t
Million tons CO2
4 4,5
Worst Case Allocation
5
Marginal Abatement Costs
Market Price
Costs lower than market price: Invest
and sell!
Ref.: Evolution Markets
10
Hedging
2004
2005
2006
2007
2009
2010
2011
2008
10
20
30
40
EUR/t
2012
2013
The use of market instruments (call and put options in this case)
can narrow the price exposure and
allow for better forward planning
Ref: Evolution Markets
11
The trouble with trading..
IT and systems
Unclear fiscal treatment,
VAT
Unclear accounting procedures
3 Exchange agreements
Credit approval new
counterparties
3 (ISDA, EFET, IETA) Standard
contracts
8 Brokerage agreements
Optimise costs of trading
(“bro”) and transfers (tax)
Verify actual emissions, registries
Intra / inter company position netting
Open H/C/T accounts
TRADE
New IT and tracking systems
12
Environmental Futures
Futures markets have two central roles: risk transfer and price discovery.
The fundamental difference between futures and forwards is the fact that futures are traded on exchanges and are standardised. Forwards trade over the counter and can be for any conceivalbe underlier and for any settlement date.
Forwards are entirely flexible. Parties to the contract decide on the notional amount and whether physical or cash settlement will be used. If the underlier is for a “physically” settled product like Allowances, parties agree on issues such as delivery point.
Forwards entail both market risk and credit risk. A counterparty may fail to perform on a forward. With futures, there is only market risk. This is because exchanges employ a system of daily margining that all but eliminates credit risk.
Party A Party BClearing
House
Q3 ‘05 Futures Contract Q3 ‘05 Futures Contract
13
Carbon Banking at Fortis
Due diligence of financing mandates
Project financing
Position management and Trading services
Registry management
feesPositio
n
managem
ent
Fortis fund for emission
reductions
Carbon price info.
carb
on
orig
inatio
n
Investment in funds
Carbon for fund
CUSTOMER
CUSTOMER
CUSTOMER
CUSTOMER
CUSTOMER
14
Carbon Banking at Fortis A core environmental products team horizontally integrated across organisational boundaries and professional disciplines
MeesPierson InterTrust
Providing EUA and CDM registry and custodian services
Later using superior administration and interfacing for a user friendly interaction with registries
Global Markets
Environmental Products Trading Desk with CER and EUA lines and knock on impact advice to other desks, particularly energy desks.
Corporate & Investment Banking
Financial services including carbon value
CIB Project Finance
Incorporating carbon price in due diligence and Discounted Cash Flow Models
Equity investment
Investing in clean energy funds for the generation of emission reductions
15
Conclusions
The corporate efforts required to manage the financial consequences and administration for compliance under the EU ETS are considerable, and to actively trade the the market an effort must be made that is potentially very disproportionate to any returns to be had.
The market is shifting from driven by policy signals to driven by fundamentals (300% price difference!), and fluctuations in weather (climate!), energy prices and economic developments have great volatility inducing potential creating a large yet high risk market.
Portfolio pooling and compliance management outsourcing are alternatives well worth considering to developing own trading capabilities for over 90% of potential market participants.
